Can retained earnings be negative?

Retained Earnings refer to the total net profits left with the company after deduction of all dividends. This amount is a source of internal finance and can be used for the growth or expansion of the company.

Retained earnings are shown under shareholders’ equity in the balance sheet and are calculated as follows:
Retained earnings at the end of the year = Retained earnings at the beginning of the year + Net Income – Dividend

From the above formula, Yes, it is possible for retained earnings to be negative. Negative earnings occur when the cumulative dividend payout is higher than the earnings made by a company during the year. This results in a negative balance as per the formula.

Negative Retained earnings indicate a number of concerning facts about a company:

• That the company is experiencing Long term losses.
• That there are chances for the company to go into bankruptcy.
• That the company may be paying out dividends to the shareholders from borrowed finance.

Positive Retained Earnings

When a company is said to have positive retained earnings, the company has several advantages. The company has excess profit to hold on to. This helps in expansion and also acts as a safety net in case of unforeseen expenses. Hence if a company shows positive Retained earnings it can be interpreted that the company is profitable.

However, higher retained earnings mean the distribution of lesser dividends to shareholders. This makes the company look less attractive to investors. Another reason for high retained earnings could be that the company has not found any profitable investment for its earnings.

Therefore, there should be adequate retained earnings with the company but at the same time, keep a check that the amount of retained earnings does not exceed a limit.